I'm a Fellow at the Adam Smith Institute in London, a writer here and there on this and that and strangely, one of the global experts on the metal scandium, one of the rare earths. An odd thing to be but someone does have to be such and in this flavour of our universe I am. I have written for The Times, Daily Telegraph, Express, Independent, City AM, Wall Street Journal, Philadelphia Inquirer and online for the ASI, IEA, Social Affairs Unit, Spectator, The Guardian, The Register and Techcentralstation. I've also ghosted pieces for several UK politicians in many of the UK papers, including the Daily Sport.

The OECD has decided that they really do have to do something about the taxation of corporations. A decision which I wholly agree with. However, what they’re going to do about the taxation of corporations seems to me to be wholly misguided. They’re going to play around with the rules to try and align corporate taxation with economic reality. But in doing so they’re missing the economic reality of corporate taxation altogether. At which point I’d like to suggest Plan Worstall: let’s simply abolish corporation and corporate taxation altogether. Let’s really have the tax system recognise economic reality.

As background to the OECD’s blitherings it is entirely true that the international tax system was set up in the 1920s and has been built up on that base since then. It’s entirely true that it doesn’t deal well with either digital goods or the much greater incidence of cross border trading since then. At which point we might think that some reform is desirable: something I would agree with. However, before we do that we need to go back to economic reality and discuss why we’re even trying to tax companies at all.

Clearly, given that we’re not all anarcho-syndicalists, we agree that we do need government: this then brings with it the necessity of taxation to fund said government. There are some things we should very definitely be taxing, land rents, pollution externalities and the like but they’re not going to raise enough money for the amount of government that everyone seems to want. I might prefer less government than most other people but I’m entirely willing to agree that I need to persuade people of that, not blithely slash away at the ability to fund what other people want. This means that we’re going to have to tax some form of economic activity.

The economic activity that takes place in and around companies seems like a reasonable enough place to tax: certainly it’s convenient. There’s just one accountant that we can force to write a check for many hundreds of millions at the largest of said companies. However, this does, as I say, entirely miss the economic reality, which is that companies themselves do not bear the economic burden of a tax. We’ve known this for over a century, since long before the current tax system was designed. It’s some mixture of the workers or the shareholders who bear that economic burden.

The logic is that there’s some standard return to capital: some average across investment opportunities. Let’s just for the sake of argument, say that it’s 10%. You invest $100 and you’ll, on average, be getting $10 a year back from that investment. We can try adjusting for risk but it doesn’t change the logic of this point. So, now we decide that we’re going to tax the profits the company is making by 50%. Inside that taxing jurisdiction the return to capital has just halved: to 5%. As a result, some foreign capital that would have been invested won’t be. And some domestic capital will be invested elsewhere where it can still get 10%. Thus we have less capital invested in that taxing jurisdiction: and the logic is that it will be so much less that the return to capital will rise to the global level after that tax. Compared to non-taxing jurisdictions the taxing one will therefore be capital poor.

Now it doesn’t actually happen quite like that for as Adam Smith pointed out, even if foreign profits are higher some people will still invest domestically just because. That’s the basis of his only mention of “invisible hand” in Wealth of Nations by the way. But it most certainly does happen to some extent.

The end result of this is that the capital poor taxing jurisdiction will have lower labour productivity than non-taxing ones. For labour productivity is, to a large extent, increased by adding labour to capital. And we know what lower labour productivity leads to: lower wages. Note that it’s not lower wages in the companies being taxed. It’s lower wages right across the entire economy in which those corporate profits are being taxed. And the end result of that is that some of the burden of corporate taxation is carried by workers in the form of lower wages, some by shareholders in lower returns to their investments.

Therefore it is not the companies that are paying the taxes, it’s some combination of shareholders and workers. Absolutely none of the above argument is in any dispute at all among economists. How much of the burden is carried by the workers, how much by the shareholders, yes, that’s very much in dispute. But that basic logical structure simply isn’t something that is argued over. Please do check this if you like by looking up “tax incidence”.

We also know what it is that influences whether it’s the workers or the shareholders that get shafted by corporate taxation: the mobility of capital. If you cannot move your money out to invest over in foreign then you’re stuck investing at home and paying the tax. Thus in an entirely autarkic economy it is the shareholders who carry that burden. If it’s easy to send your money elsewhere then it will be the workers who carry more of the burden. And in a world of perfect capital mobility (although note Smith’s point that it never will be perfectly mobile) then it will be entirely the workers.

We should also note that there’s absolutely no reason why the burden on the shareholders and workers needs to be the same as the amount raised in tax. One result from Atkinson and Stiglitz is that the burden can be greater than 100%: and we do indeed see this in the estimations of the European Union’s current damn fool attempt to have a financial transactions tax.

One thing that the perceptive will note. From WWII up to the 1980s it was in fact really very difficult to invest outside your home country. Partly simply information systems but also the Bretton Woods system of financial repression. Many countries actually made it illegal for private citizens to take anything more than the most paltry amount of cash or money out of their native countries. At which point overseas investment really is rather difficult. So we could indeed say that during this time much of the burden of corporate taxation was upon shareholders, not the workers.

Of course, today, any of us can invest in pretty much any country we desire in a matter of moments. Capital has become much more mobile: thus more of the burden has moved from shareholders to the workers. I would hesitate to say that all of the slow down in wage rises in recent decades has been a result of this increasingly mobile capital since 1980. But it’s certainly something that has had an influence.

Back to our starting point though. Given all of the above then why do we tax companies, not shareholders or workers? Simply because a company is a convenient place to go get the money we desire. In two senses in fact. One is simply that there’s lots of money in a large company so it’s possible to get a nice large check from them. The other is that all too many people (including, very sadly indeed, all too many campaigners about “tax justice” and the like) don’t understand all this about tax incidence. One UK campaigner, to my incredulous disbelief, as been known to insist that tax incidence is worth studying when looking at social taxes on wages (national insurance, social security, the payments “made” by companies on the workers’ wages) but sticks his fingers in his ears and shouts “Nyah! Can’t hear you!” when anyone mentions the same impeccable logic with respect to corporate taxation.

Yet as the OECD and everyone else is noting these days companies are no longer convenient places to go get that desired cash to pay for government. In fact, it’s turning out to be darned hard to get them to cough up. At which point, if we’ve only ever collected the tax at the corporate level because it was convenient then now that it’s inconvenient perhaps we should stop trying to collect it at the corporate level?

All of which leads us to Plan Worstall. Let’s simply abolish corporation tax, the corporate income tax. Let’s devise a different method of taxing the same economic activity, given that we do all want so much government that we’ve got to tax some economic activity. It would be extremely simple to do as well. Simply tax corporate dividends and capital gains on shares in corporations at normal income tax rates. That’s it.

No, really, that is it: just abolish the corporate income tax and tax the returns from investment at the level of the individual receiving those returns. We’re still taxing the same economic activity. We’re still taxing the rich more than the poor. We’re reflecting economic reality and we don’t need years of negotiations between governments to achieve it. And, get this, tens of thousands of very highly paid lawyers and accountants will have to go do something useful for a living rather than fiddling with corporate structures to reduce tax bills. What’s not to like?

I will admit to there being one problem with Plan Worstall. It’s not got a celluloid rat’s chance in hell of ever being implemented. Satan will be wearing winter warmers before our tax campaigners and politicians will admit to the incidence of corporate taxation. But just because I’m right but repulsive doesn’t mean I shouldn’t saddle up and charge the Cavaliers and reactionaries, does it?

Post Your Comment

Post Your Reply

Forbes writers have the ability to call out member comments they find particularly interesting. Called-out comments are highlighted across the Forbes network. You'll be notified if your comment is called out.